It is first important to note that there is contention around this subject and as such, much disagreement on the definitions. For an example of this, one need not look further than the below resources which arrive at contrasting conclusions:
Digital vs Virtual Currencies
The above CoinDesk article posits an easy way to understand the difference: by placing the word ‘economy’ as a suffix.
Digital economy: As such, this would describe all businesses, people and services working in a digital manner. Whether these are businesses operating solely online, members of the gig economy or app building services; each look to provide an offering with digital at its heart.
Virtual economy: In comparison, the virtual economy is the ‘un-real’. Whether this is the micro-economies within Farmville, communities in World of Warcraft or (in a few years to come) the services provided within virtual reality.
Therefore, the difference between digital currencies and virtual currencies can be understood in a similar fashion: where digital currencies are a non-physical representation of traditional fiat money, virtual currencies represent a truly online asset which does not has value other than in its virtual world.
Some notable examples of virtual currency are Pokécoins in the game Pokémon GO!; Facebook credits for advertising and in-platform games; and K Stars within the Kardashian Game app. In each of these examples, traditional fiat currency (in digital form) must be exchanged for the virtual currency and what’s notable is that this is a one-way flow e.g there is no easy method to exchange your Pokécoins back to traditional fiat currency. In addition, a Facebook credit cannot be used to buy a loaf of bread and nor can K Stars be used to purchase a house – their use and value reside within the platform they have been created in.
In comparison, digital currency is a digital representation of a physical asset e.g money in your PayPal wallet, currency on Revolut and the money in your HSBC online account which you use to purchase some K Stars.
Another key distinction is the level of centralisation and ownership. Where digital currency is owned and controlled by central banks and governments, virtual currency is decentralised and can be created by any corporate e.g Facebook, app makers, individuals, and thus falls under a bespoke set of creation and usage rules, outside of national fiscal policy.
However, this distinction starts to buckle once more abstract concepts such as bitcoin, ether, and litecoin, the cryptocurrencies, are introduced.
(For a beginner’s guide to cryptocurrencies – look here)
Many will be familiar with the first cryptocurrency, Bitcoin (BTC), which has a market cap of c.$40bn and sees 24h trading volumes of c.£1bn, some may also be familiar with Ether (ETH), Ripple (XRP), Litecoin (LTC) and Ethereum Classic (ETC) which complete the top 5 of cryptocurrencies by market cap. This nascent technology was born in the inaugural 2008 whitepaper from Bitcoin’s anonymous creator Santoshi Nakamoto (pen name) and which laid the foundations of blockchain technology.
In the 9 years since, a total of 986 cryptocurrencies have been created and the knowledge, awareness and use of cryptocurrencies has grown exponentially. However, due to a lack of regulation and piecemeal approach by national governments, cryptocurrencies currently exist in a void between virtual and digital.
The difficulty with categorising a cryptocurrency as either a virtual or digital currency is that it holds similarities with both:
- In-line with a virtual currency, it is not pegged to an underlying fiat asset
- However, like a digital currency it can be used to purchase real world goods, and the number of retailers and corporates which now accept Bitcoin is growing. However, it is worth noting that when it originated, Bitcoin drew attention from only the computer geeks and basement techies thus pushing it towards virtual currency status. However, in the years since, its acceptance by mainstream businesses has brought it out from being a niche asset and into cross-platform/ cross-market application thus moving it towards digital currency status.
- Like a virtual currency, it is decentralised and not controlled or created by a central bank or government
- But similar to a digital currency it is not confined to a specific platform or application
As such, many struggle to define it as either a virtual currency or a digital currency. However, as Bitcoin, ether, litecoin etc begin to mature and establish themselves; it may be time to define cryptocurrencies as their own distinct asset class instead of attempting to categorise them within existing non-fiat framework. In addition, and in the spirit of ensuring correct classifications are provided from the outset – the sub-category of tokens should also be listed as distinct.
Tokens can be understood as a subset of cryptocurrencies whose raison d’être is to help the functioning and maintenance of a specific platform or application. Examples of this include; Brave-coins which are used on the blockchain based internet browser Brave, Argur which users vote with in order to create a decentralised predictive market and Storj which is used to pay those who donate the used GBs on their computers as decentralised remote cloud storage.
As such, one wishing to liquidate these tokens would first have to convert them to a more standard cryptocurrency or sell directly to those wishing to purchase the token. However with 986 different cryptocurrencies/tokens, finding someone who is interested in buying your obscure token may be more difficult than exchanging to BTC.
As such, where cryptocurrencies can be seen to function closer to digital currency, tokens should be seen to function closer to virtual currencies and their position within the wider variety of non-fiat currencies can be understood with the below graphic:
In-line with the above, digital currencies can be understood to be non-physical representations of fiat currency. Virtual currency can then be understood as an online asset with no underlying physical representation, and cryptocurrencies should be understood, distinct from tokens, as a cryptographic non-physical asset which sits in-between the digital and the virtual as an exchangeable, unit of account which is a store of value.